The Old Lady will be cross if banks keep spurning CHAPS

Thursday 7 July 2011 11:20 BST

Red alert: the Bank is warning on the risks of the settlement system

In the good old days, the Old Lady of Threadneedle Street merely had to give a nudge and the banks scurried to do her bidding. Today it takes the rather more formal action of a speech to the ifs School of Finance in Leeds by the Bank of England's chief cashier Chris Salmon to get things moving.

His speech centred on CHAPS, the real-time settlement system used by UK banks when they are shifting large sums of money around. You and I rarely encounter CHAPS, perhaps only when buying a house. But the system handles an average of £250 billion of transactions every day.

Only 18 banks are actually members of CHAPS with the vast majority, something like 300, choosing to sit outside and funnel their business through those members.

According to the Bank of England, more than half the transactions done through CHAPS are on behalf of those non-member banks. This creates a potentially enormous risk. While the member or correspondent banks are settling in real time with each other, they only settle with their customer banks at the end of the trading day.

This means that each day there are huge amounts of unsecured loans swimming around the system. It would take a mere whisper that a particular bank is in trouble and all those loans could be called in immediately or, at the very least, the lender would demand much higher collateral. That's what happened on a global scale when Lehman collapsed.

Salmon cited another example: "Where a customer is larger than its correspondent, these credit risks can become material enough to threaten the correspondent. This risk nearly materialised during the financial crisis, where in one of the UK payment systems, a UK bank that got into difficulty made its payments through a much smaller bank, in terms of balance-sheet size. These exposures could well have put the smaller bank in significant financial difficulty had the authorities not intervened in the failing bank."

The solution, the Bank says, is for more of the major players in the London interbank market to become members of CHAPS.

In the equivalent system for securities, Crest, the vast majority of players are members and almost all the £1.6 trillion of trades it handles per day are settled in real time.

CHAPS and Crest evolved pretty much at the same time in the 1990s and, after some teething troubles, turned out to be robust systems which survived the last financial crisis and almost certainly ensured more UK banks did not fail.

In other countries, such as Hong Kong, membership of a large payments settlement system is compulsory for all banks. In the United States, the CHAPS equivalent Fedwire has 7000 members. Regulators at the IMF and in Basel are likely to recommend removing more risk from settlement systems when they report later this year or next.

The Bank of England reckons that merely adding another 10 UK banks to CHAPS would cut risk by more than a third. Salmon put it very gently that if this were not to happen "the Bank may consider recourse to more formal actions".

For those banks who missed the nudge and have failed to see the wink, be warned. You may just be about to feel the Old Lady's boot applied to your tender regions.

Could a sale be in the air as 3i brings in rainmaker Borrows?

What is Simon Borrows' real role at 3i going to be?

His title is chief investment officer, but I reckon his task is much bigger than that.

3i has seriously fallen out of favour in the City, as yesterday's rowdy shareholder meeting showed.

Chief executive Michael Queen has seen the share price halve in the past three years. Even more worryingly, the shares now stand at a 17.5% discount to net asset value.

Borrows does not need this job. He is one of the biggest rainmakers in the City, with history in corporate finance at Morgan Grenfell and Barings before he set up the London branch of Greenhill in 1998.

He was paid $1.85 million (£775,000) by Greenhill last year, and his stake in the business is worth almost $24 million. It's unlikely 3i has offered him anything like that.

Among the many deals Borrows has done (including selling EMI to Guy Hands) was the flotation of 3i back in 1994. So he knows this business well.

But I find it hard to believe he has really come on board to assess the yays and nays of making a couple of hundred million euro investment in a Dutch hydraulics company.

Isn't it far more likely that he is there to tidy 3i itself up for sale?

City's big chance to score with a bar on BSkyB deal

In a week when many people believe that my own profession's reputation has actually sunk beneath that of bankers, is it time for the City to score some more points by taking a moral stance over the takeover of BSkyB by Rupert Murdoch's News Corp?

Politicians appear to be prevaricating. Culture Secretary Jeremy Hunt has set a deadline of tomorrow for final comments on his decision to clear the bid. That does not mean he has to announce that clearance formally tomorrow.

Regulator Ofcom has taken a wait-and-see attitude on whether the phone-hacking allegations at the News of the World affect News Corp's "fit and proper" status.

Why can't the City, perhaps under the auspices of the neutral Takeover Panel, take the initiative?BSkyB's independent directors are receiving well-paid advice from UBS, BoA Merrill Lynch and Morgan Stanley. Murdoch's team is being advised by investment bankers from Deutsche Bank and JPMorgan Cazenove and a legal team from Allen & Overy.

Until this week, the Sky takeover was simply about plurality of news and the eventual take-out price.

It has now moved to an utterly different level.

Shareholders in News Corp can express their views directly to Murdoch and his investor relations team or through the simpler route of selling their shares. Shareholders in BSkyB have been left in limbo.

The Panel has recently taken a firm stance on put-up or shut-up orders to make phoney bidders declare their hands. Perhaps this time it should issue a shut-up and don't-put-up order to halt the bid until the phone-hacking affair is over.